External Auditors’ Involvement in the Internal Audit Function’s Work Plan and Subsequent Reliance Before and After a Negative Audit Discovery

Practical Implications:

These findings provide insight into the decision-making process of external auditors as they make IAF reliance decisions. In particular, the results show how IAF objectivity interacts with external auditor involvement to have an impact on external auditors’ reliance decisions and how subsequent reliance decisions are affected by negative evidence about the quality of the IAF’s work.

The purpose of this study is to experimentally examine how external auditors’ involvement in the internal audit function’s (IAF’s) work plan influences their decisions to rely on the work of the IAF and how that involvement affects their audit response in terms of re-performance of the IAF’s work and adjustment to budgeted hours. Furthermore, the authors go beyond the focus on external auditors’ initial reliance/re-performance decisions and evaluate how involvement influences their subsequent reliance and re-performance decisions after the discovery of a negative audit finding.

Design/Method/ Approach:

The authors conduct an experiment with senior-level auditors from a large public accounting firm to investigate how involvement in the IAF’s work plan influences external auditors’ reliance on the IAF both before and after a negative audit finding.

Findings:

The authors find that involvement increases the perceived objectivity of the IAF and that both involvement and objectivity influence external auditors’ initial reliance decisions, whereby involved auditors report greater reliance on the work of IAF. This greater reliance translates into re-performing less of the IAF’s work and reducing the audit budget to a greater extent as compared to external auditors with no involvement.

The authors find that external auditors in the involvement condition continue to exhibit a greater propensity to rely on the IAF and re-perform less of the IAF’s work when compared to those in the no-involvement condition, even after a negative audit finding.